If it’s the American Dream to own a home, going through bankruptcy or foreclosure may very well be the American Nightmare. In the late 2000s, the U.S. housing market collapsed, and the economy began its free fall. By the time the economy struck bottom in March 2009, more than 1.2 million people had filed for bankruptcy within 12 months. Since 2009, the economy has made a slow but substantial recovery. In Nov. 2016, the unemployment rate reached a nine-year low at 4.6%. That has continued to drop, reaching 4.0% as of June 2018. As the economy picks up, it may be a good time to start moving toward that dream again. But what about buying a home after you've filed for bankruptcy or if you went through a foreclosure? Well, you’re going to have to show some discipline. And some pay stubs. And dance a few more steps.
Keep on Top of Your Credit Report
Americans who have filed for bankruptcy have a lower score than non-bankruptcy types. The higher your credit score, the less interest you’ll have on that mortgage payment: 1.5 to 2 percentage points less. And anyone who has gone through foreclosure will also take a hit on their credit rating. So it's important that you don't remain in the dark when it comes to your credit report.
There are several ways of keeping tabs of your credit history and score. By law, the traditional three agencies, Equifax, Experian and TransUnion, are required to provide a free report once a year. Alternatively, you can use one of the many credit monitoring websites now available to consumers. And the good thing: Most of them are free.
If you see any mistakes on your credit report, it's important that you take action right away. The more that mistake sits on your history, the less likely it will be that you'll get more credit, including a mortgage. The best thing to do is to contact the reporting agency and notify them of the error and to let them know that you're contesting it. Perhaps it's an unpaid debt that was cleared off long ago or fraudulent activity after your identity was stolen. Whatever it is, you'll want to get everything rectified so you can move on. And make sure your credit report shows that your bankruptcy is discharged. This means that the court has released you of your liability from some or all of your debts. (Also, see What Do Credit Score Ranges Mean?)
Keep Your Job
If you agonize over going to work, or you don't like the job that you're in, you may have to stick it out a little longer. Staying with your current employer shows a potential lender that you’re trustworthy; not to mention you'll have a secure source of income that you can rely on to make your regular monthly payment.
Rebuild Your Credit
It can be a daunting task to come back from what seems like rock bottom, but it can be done. All it takes is some careful planning and a lot of patience. First, you'll want to get two or three secured credit cards. Try hitting up your bank first. You'll have to deposit a certain amount in a bank account for the entire time your card is secure — that amount is usually the same as your credit limit. The good thing with secured cards is that you will earn interest on your deposit. Once you have them, charge only small amounts, and keep them paid off. Next, try taking out a small loan, either a personal, car or student loan, and pay it off quickly. If you can swing it, try making an early payment, but make sure none of your payments are ever late. A few other things to consider: Make your rent payments on time, be sure never to bounce a check and always keep some money stashed away in a savings account. You never know when you'll need some emergency funds.
Patience Is Definitely a Virtue
If it’s been less than two years since filing for bankruptcy, you will need to wait. If you’ve lost your home to foreclosure, it’s longer – typically for three years. And the countdown clock doesn’t start when you’ve loaded the last box on the moving van; the lender has to complete the foreclosure. After the waiting period, make sure you are fully prepared to apply for a loan. Ask yourself if you have a good debt-to-income ratio. Is your life stable? Have you a retirement plan or assets in a 401(k)?
Been Through a Foreclosure?
There is some good news if you've been through a foreclosure. Real estate agents and mortgage brokers look upon you favorably: You’re a motivated buyer – you’ve bought a home, and lost one, and now you’re back again. You’ll do whatever it takes. And more good news: The foreclosure could be your only credit problem, which means you might be able to clean up the mess a little more quickly.
Almost all lending institutions – banks, credit unions and mortgage lenders – will work with government-sponsored programs. There are two: The Federal Housing Administration (FHA) and the Department of Veterans Affairs (VA), which is available only to veterans of the honorably discharged variety.
If that foreclosed loan was backed by the FHA or VA, it’s now being tracked by CAIVRS, a Government database. CAIVRS is almost as bad as the NSA. Simply put, you’re ineligible for another government-backed loan until you’ve repaid the government.
If you’ve been foreclosed upon, the lender must pre-approve your new home loan, so check with the lender first before starting the search. In fact, check with a real estate pro before the lender just to ensure you’ve filled in all the boxes.
Before the Approval Process
If you've been able to establish your credit again, and gone through the cursory waiting period, what's next? First, you'll want to make sure you have a good down payment ready — at least between 10% and 20%. But be certain that you know what you're getting yourself into. Because you have come out of bankruptcy or survived a foreclosure, you will have to pay a higher interest rate. And remember to stay within your budget, so it's probably a good idea to find something affordable. Perhaps it's an older condo, a co-op or maybe even a mobile home.
The lender may want a co-signer, so keep that in the back of your mind. Check with friends or relatives who may be willing to co-sign the loan for you. This, of course, leaves them responsible if you blow off house payments. Make sure they’re familiar with you, your morals, your finances, your credit score and your payment history. Make sure they trust you and make sure you don’t ruin their credit. But seriously, only do this as a last resort.
The Bottom Line
A lot of people end up hitting a financial rock bottom — whether that's bankruptcy or going through a foreclosure. But that doesn't mean you have to shelve your dreams of owning a home. Getting yourself back up into the mortgage game means you'll have to do a little work to dig yourself out of that trench. But with a bit of time and effort, you may still be able to live the American Dream.